Dine Brands Global, Inc. (DIN) Q4 2015 Earnings Report, Transcript and Summary

Welcome to the Fourth Quarter and Full-Year 2015 Dineequity Earnings Conference Call. My name is Christine and I will be the operator for today's call. [Operator Instructions]. I will now turn the call over to Ken Diptee, Executive Director Investor Relations. You may begin.

Good morning and welcome to DineEquity's fourth quarter and fiscal 2015 conference call. I'm joined by Julia Stewart, Chairman and Chief Executive Officer, Tom Emrey, CFO, Gregg Kalvin, Corporate Controller. Before I turn the call over to Julia and Tom, please remember our Safe Harbor regarding forward-looking information. During the call, management may discuss information that is forward-looking and involves known and unknown risks and other factors which may cause the actual results to be substantially different than those expressed or implied. We caution you evaluate such forward-looking information in the context of these factors which are detailed in today's press release and 10-K filing. The forward-looking statements are as of today and assumes no obligation to update or supplement these statements. We may also refer to certain non-GAAP financial measures which are described in our press release and also available on DineEquity's Investor Relations website. I will now turn the call over to Julia. Julia?

Thanks Ken and good morning, everyone and thanks for joining us today. We have a lot to cover, so let's get started. As you read in our press release this morning, we achieved significant year-over-year growth of 31% in adjusted EPS for fiscal 2015. We generated over $142 million in strong free cash flow and we returned $136 million or 96%, to shareholders. IHOP finish the year on a strong note, posting a 4.5% increase in comp sales, lapping over a solid 3.9% increase last year. On a two-year basis, comp sales were an impressive 7.6%. Applebee's full-year comp sales were slightly positive and while sales for the brand were in line with our full-year guidance, the results were not where we want them to be. We have a plan in place to drive the performance we expect from both of our brands as leaders in their respective categories. I will provide more details later on. Now, as you are aware, the industry faced various challenges last year, but 2015 was still a year of notable accomplishments for DineEquity. We reported strong double-digit earnings growth each quarter. We increased our quarterly dividend which has grown by approximately 23% since it was restored in 2013. We took strategic steps to consolidate our restaurant support centers, accelerate growth in our brands and speed restaurant development. We made significant progress on our longer term plans to grow internationally by expanding the restaurant development pipeline. We achieved the highest quarterly and full-year comp sales increases in the last decade at IHOP. We collaborated with our franchisees on a plan to significantly change the story at Applebee's going forward and we completed the process of filling key open executive positions to take DineEquity to the next level. Our strategy is centered on five benchmarks to accelerate sustainable organic growth -- first, boldly change the story at Applebee's and revitalize the brand; second, sustain IHOP's momentum and continually raise the bar; third, accelerate the pace of both domestic and international restaurant development; fourth is to build a more nimble organization under one roof; and the fifth, to continue to thoughtfully explore a strategic acquisition. Now, I mentioned last quarter that, after careful analysis, it's clear that the work we've done to date on Applebee's has not been enough. To address this and remain ahead of the competition, we must move faster, be bolder and think outside the box. We have a new approach focused on achieving excellence in select initiatives rather than working on too many simultaneously. Now I'll provide some color on that strategy. Starting with the first benchmark, we're going to change the story at Applebee's. Let me begin with two observations about the performance of Applebee's, one general and one more specific. First, the casual dining segment continues to be quite challenging as consumers' discretionary dollars find their way to fast casual and quick service concepts. And although 2016 has started slowly for the industry, I am confident that the plan we're collaborating on with our franchisees will build success throughout the year. Second, Applebee's has clearly not done enough to differentiate itself and punch through this noisy, cluttered market. As the consistent leader in casual dining, we can't wait for trends to become more favorable. We have to do the heavy lifting ourselves and we're. We're executing a strategy intended to give guests compelling reasons to rethink the brand and visit more often while enticing those that have not been to an Applebee's to see what's new at their neighborhood destination. We're in the midst of a system-wide effort to upgrade restaurant operations and better train team members, both back of the house and front of the house, as part of a renewed commitment to the guest experience. We're streamlining our menu to make it easier for the kitchen to turn out consistently great food and to focus on what guests love most. And we're building a pipeline of innovative menu offerings, beginning with a new platform this spring that will be the centerpiece of our strategy. We're finalizing plans for remodels and new prototypes that will contemporize existing restaurants and facilitate expansion into both traditional and nontraditional venues. And we're creating a new marketing and advertising campaign that will embrace the heritage of the Applebee's brand, a Neighborhood Grill & Bar, in ways that are relevant and appealing to today's consumer lifestyle. Now, I can't provide specific details on our plans for competitive reasons, but they are well underway. We expect that our initiatives will begin to gain traction in the back half of 2016. I'd like to thank you for your patience. I understand it's a tale of two halves, but we have a very aggressive plan that our franchisees have bought into and they are willing to significantly invest in their future growth. We expect that these bold initiatives will take effect during the back half the year. But make no mistake, we will not be content until we have achieved sustainable organic growth at Applebee's and have restored positive traffic. Now, moving to the second benchmark, sustain IHOP's momentum. The fourth quarter was the 11th consecutive quarter of positive comp sales at IHOP. I'd like to highlight that we're lapping over the incremental contribution increase to the IHOP National Advertising Fund. As a reminder, the voluntary increase in advertising spending by franchisees began in the fourth quarter of 2014. To continue the momentum, we're focusing on traffic-driving strategies first and foremost. We're collaborating with franchisees to enhance our media and advertising strategies. We're continually evolving our menu innovation strategy to feed consumers' growing appetite for IHOP favorites and breakfast inspired food to be enjoyed all day, any time of day. We're rolling out a new domestic remodel package and accelerating development. Our goal is to have franchisees remodel a substantial portion of the system over the next few years. In 2016, we expect them to remodel about a quarter of the systems which we think will have a long term beneficial impact on the brand. This, coupled with new development by franchisees each year, is expected to be an impassable infusion of newly imaged restaurants. And lastly, we're reinventing the in-restaurant experience aimed at flawless execution from an operational perspective. In fact, we ended 2015 with the highest scores in the last five years in guest loyalty, overall satisfaction, likely to return and likely to recommend. Now, let's turn to our third benchmark, accelerating the pace of domestic and international development. Driving material improvements in traditional and nontraditional restaurant growth are high priorities. We're leveraging the strength of our brands to expand our footprint in areas where our guests want us to be. Regarding international development, last year, I promised you an update on our progress. I'm very pleased to highlight that 2015 was a very strong year terms of new agreements that were signed to increase our pipeline of international development obligations. We signed 16 new development agreements, representing 94 obligations and nearly doubling our obligations pipeline from 106 in 2014 to 200 last year. We've made real progress since we launched our international organization in 2014 and we're building a foundation for long term growth. We will focus on signing long term development agreements with franchisees in targeted markets. Now let's switch gears to briefly talk about our fourth benchmark, to build a more nimble organization under one roof. We told you last quarter that we've made an important strategic decision designed to create a more agile and collaborative company. To update you, we've started the process to consolidate our restaurant support centers and wind down the majority of operations in Kansas City. We believe the move is a key enabler to accelerate growth across Applebee's and IHOP with both brand-centric teams working in one location to drive better collaboration and synergy. Enhancing our ability to integrate and share ideas faster will improve our speed to market. We're focused on new platforms that will provide a lasting impact and those types of initiatives are not achieved overnight. This is all about positioning DineEquity for the future and the consolidation is an important step in that direction. Moving to our fifth benchmark, we will continue to thoughtfully explore a strategic acquisition. And with that, I'll turn the call over to Tom to walk you through the financial results. Tom?

Thanks Julia. Good morning everyone. Today I'll briefly review our financial highlights, including the details on cash return to shareholders in 2015 and then wrap up with a discussion on our financial guidance for fiscal 2016. Let's get started with the income statement. For the fourth quarter, we reported a solid 37% increase in adjusted EPS to $1.59 from $1.16 in 2014. The gain was mainly driven by an increase in gross profit, including the positive impact of a 53rd week in fiscal 2015. For fiscal year 2015, adjusted EPS rose to $6.19 from $4.73. The 31% increase was primarily due to a decline in interest expense compared to the prior year and higher gross profit which was driven by stronger franchise segment profit. The higher franchise segment profit was driven by the 53rd week, a 4.5% increase in IHOP comp sales and restaurant development. Revenues in our rental segment rose by 4% to roughly $128 million in 2015 compared to the prior year. The improvement was driven by the impact of the 53rd week in 2015 and the favorable impact of higher IHOP comps on percentage granted. The decline in financing revenues for 2015 was primarily due to $1.4 million in negotiated early termination fees received in 2014 that did not recur in 2015. I'd like to mention that early lease terminations occur relatively infrequently. Regarding G&A, on an adjusted basis, G&A in the fourth quarter was essentially flat compared to the same quarter of 2014. Now, including approximately $2 million of nonrecurring consolidation costs, G&A was $45 million in the quarter relative to roughly $43 million in last year's fourth quarter. On a full-year basis, we incurred approximately $6 million of costs related to the consolidations that were not included in the calculations of adjusted EPS. On an adjusted basis, G&A was nearly $150 million for 2015 compared to roughly $146 million for the prior fiscal year. The increase was driven by higher personnel related costs and professional services. Personnel costs increased partly due to several executive management positions that were filled in 2015. So when you add the nonrecurring consolidation costs, G&A was up $10 million versus 2014 all-in. Approximately $6 million of that increase was related to the consolidation and about $4 million was due to the normal course of business. We view managing G&A of course as a critical part of running our businesses. Turning briefly to the cash flow statement, cash flows from operating activities were $136 million for 2015 compared to $119 million for the prior year. This was higher than our 2015 guidance expectations because we collected about $12 million of gift card money on the last day of the fiscal year that we expected to hit in 2016. It's worth noting that this gift card money would've been typically collected in the next fiscal year under a 52-week fiscal calendar. So, overall, our cash from ops increase over 2014 was driven by, one, significantly lower interest expense, two, higher gross profit and three, changes in working capital which provided cash of $7.8 million compared to using cash of $2.3 million in 2014. The cash from ops favorability I just covered and slightly lower than planned CapEx drove free cash flows for 2015 to a very strong $142 million. As a result, we returned over $136 million to shareholders in cash dividends and share repurchases combined. To give you a little more color, we spent approximately $70 million in 2015 to repurchase just over 721,000 shares of our common stock of which roughly 232,000 shares were repurchased in the fourth quarter. We do have approximately $133 million remaining under the current share repurchase authorization. Turning to our performance guidance for fiscal 2016, I'll provide a few highlights, so please see the press release for full details. We look for comp sales between negative 2% and positive 2% at Applebee's in 2016. Our guidance reflects the continued challenges facing the industry and the time it will take to implement traffic-driving initiatives. At IHOP, we expect comp sales to range between positive 1% and positive 4%. We expect this expense be approximately $52 million, of which roughly $3 million is non-cash. As a reminder, for 2016, we will back out the $4 million in expected consolidation costs from the full-year adjusted EPS calculation. Including these costs, G&A is projected to be between of approximately $154 million and $158 million. Free cash flow is expected to range between $116 million and $126 million. Our guidance reflects the impact of, one, approximately $10 million in nonrecurring tax payments related to deferred gains from the repurchase of our debt primarily in 2008 and 2009; two, about $6 million in cash costs related to the consolidation of our restaurant support center; and three, a small impact of fiscal 2016 having 52 weeks, including gift card effects. Our income tax rate is expected to be roughly 37%. And lastly, CapEx in 2015 is estimated to be approximately $8 million. To wrap things up, we had a strong year overall financially. And with that, I'll turn the call back over to Julia for a few closing thoughts. Thanks.

Thanks Tom. In closing, 2015 was marked by solid financial performance as evidenced by our double-digit EPS growth and strong free cash flow generation. It was also a year of achieving corporate milestones from key hires to the implementation of our strategic consolidation to securing promising international development agreements to further build our pipeline. Although a work in progress, we're working to accelerate domestic and international development to expand the reach of the brands and build a solid pipeline. In 2016, we're making bolder moves to revitalize Applebee's and get the brand back on track. We're committed to sustaining the momentum at IHOP by focusing on traffic-driving initiatives, the remodel and the ongoing evolution of our menu. Finally, just on a personal note, I've been in the restaurant business a long time. I've seen industry fluctuations before and seen brands and entire categories in highs and lows. And I am confident that we will execute on our strategy to navigate through this. I feel more committed than ever saying that this is our year to tell the story differently at Applebee's. And now Tom and I would be pleased to answer your questions. Operator?

[Operator Instructions]. Our first question comes from John Ivankoe from JPMorgan. Please go ahead.

Two separate questions if I may. The first is on your share count and interest expense guidance 2015 to 2016. Your share count in 2016 guided to be flat with the fourth quarter of 2015 and interest expense only down $1 million from $63 million to $62 million. So, I guess the question is why aren't those targets being more aggressive given your free cash flow? And are you actually building cash or are you intending to build cash at this point to possibly do an acquisition?

We're not building cash to do an acquisition. We have been pretty uniform about how much we've spent quarter-to quarter on share repurchases, ranging between $15 million to $20-odd million. And while we can't say that goes on indefinitely, the plan is that there is no significant change to that over time. So we're not building cash.

But why wouldn't either interest expense or share count be down in 2016 over 2015?

We show it to be down I believe for the share count.

The share count is flat relative -- you ended the fourth quarter at $18.5 million. Yes, relative to the full year, but relative to fourth quarter 2015, it was $18.5 million.

It's calculated on a weighted -- I can take you through this off-line if you want to. It's a weighted average calculation, as you know and there are grant employees as well, but it offset part of the buybacks.

Okay. Sorry to be so specific on the call. And the next question is broader, maybe a little bit more strategic. Julia, in your prepared remarks, you mentioned that your franchisees had agreed for a significant investment in future growth in the Applebee's business. Can you kind of talk a little bit more in terms of what that means? Is it capital? Is it more labor hours? Is it potentially lower prices for -- that franchisees are willing to forego some gross margin in the short term for long term benefit? Can you talk about what that significant investment means?

I can't talk about it specifically because it's competitive, but virtually everything you said, the answer is yes and then some. So think of our franchisees as agreeing to believing in the future and making major assessments in the business along with us because they believe in what we're talking about and what we're doing, as they believe as I believe that the moves haven't been bold enough. And I recognize it's frustrating for you because I can't be specific, but for competitive reasons, I just can't. Just know that you will see change this year, given what we're agreeing to invest in, both DineEquity and our franchisees.

Our next question comes from Brian Vaccaro from Raymond James. Please go ahead.

I want to just ask about first a couple of questions. I want to ask about the shift towards value that you made at Applebee's in the fourth quarter with the $10 price point LTL. And Julia, as you look at the components, I know you don't historically talk about traffic versus check, but as you look at the components of comp, did that move the needle at all on the traffic side?

Not dramatically, no. I think we have a real opportunity to tell the story differently which is what we're talking about doing this year. I think we have to be much bolder and much more aggressive.

Right. I guess as you think about the levers you're thinking about pulling in 2016, you mentioned some changes to ops initiatives, both front and back of house, streamlining the menu, etc. Can you provide a little more color maybe on -- I guess on the ops initiative? Is that initiatives to potentially increase throughput in the back of the house, improve service maybe in the bar? Any incremental color on some of those items?

Yes, I know I'm being vague and I apologize for that. It's more competitive. I think there's -- think of it this way. On the ops side of the business, there's a real opportunity to return to some of the what you would think of as foundational work, but retraining in a very significant way which is obviously an investment for the franchisees to retrain the back of the house, retrain the front of the house. So it is some significant training on what's it going to take to differentiate the brand, what our consumers have told us they need and want in terms of the guest experience. And let's just not forget that an enhanced guest experience first and foremost drives repeat traffic. So, we have a pretty clear understanding of what we need to do differently and we're maniacally focused on doing it from an operating standpoint, both in the back of the house and the front of the house. And our franchisees understand it. They've seen the research. We've spent a considerable amount of money on proprietary research. We know what our consumers want. They've made it very clear. I guess the really good it's beside I've certainly worked at brands in my prior life where consumers were like I don't really care, our brand customers care. They want Applebee's to be better. They are very clear about what their expectations are. We have to deliver against that and that's the buy-in that I spoke earlier with our franchisees. There is complete buy-in, maniacally focused on it, actually not for a particular quarter but for all of fiscal 2015 -- 2016. And we're right in the midst of it as we speak.

Okay. We look forward to some of those changes as we move through 2016. I wanted to ask you about the international pipeline and pleased to see some of the progress there that you mentioned on the call. Can you give us some color on regions or countries or partners and which brands that was? Was that Applebee's or IHOP or both?

It's both brands, but in particular right now, in South America, Central America, the Middle East and now getting into Asia, there's real interest in both brands. And I think I mentioned to you before both brands have been testing new footprints and prototypes and there's a lot of interest with our existing franchisees and actually some new franchisees to build out and develop both of those new prototypes in those countries' particular interest. And the Philippines in particular it was a gateway for Asia, as you know. And we have had real success with the new prototype there. So there's just a lot of growing interest. We actually did some major work with presentations in those major countries last year and had a lot of interest from -- we would do one day with existing franchisees, one day with potential franchisees and there was incredible interest to explore both of those. So we're growing and getting a lot of interest at a pretty rapid pace.

Our next question comes from Michael Gallo from CL King. Please go ahead.

Just a couple of questions, I was wondering, Julia, if you can give us any more detail on what's going to change in the new remodel package at IHOP, whether it's focused on back of the house, front of the house, exterior, some combination, whether there will be any change in the number of seats in the restaurant and just how we should think about that from both an investment cost and a same-store sales perspective. Thanks.

You should think about the exterior of course going through some transformation, the seating area, the entry area, some really new -- sort of think about it as the new way to sort of enter the IHOP restaurant. Many of the IHOPs need a new bathroom, an updated bathroom. As you know, guests find that very important and we think it's important as well. So that's a focus. Less so in the back of the house. You'll see it would be minor in general. We have some platform work, but it's not significant. The real dollars, if you looked at it, would be in the dining room, the entry, the exterior and then it's not a system-wide bathroom, there's probably 40%, 50% have to do some major work. So I will have a better answer on the costs in our next call because we would have people signed up for it and know pretty much who is doing bathroom this year and who is not. But in general, it's really thinking of it as more contemporary and meeting the needs of our guests. Very exciting.

And then a follow-up question for Tom. Maybe I missed it in the prepared remarks, but did you break out what the earnings impact was from the 53rd week?

I didn't cover it.

This is Ken. We provided that on our second quarter 2015 call. It was roughly $6 million we said.

Okay. And it came in that way? Came in as expected?

More or less, yes.

Our next question comes from Chris O'Cull from KeyBanc. Please go ahead.

What requirements or parameters do franchisees at Applebee's have for remodeling restaurants?

Almost identical to IHOP. IHOP, it is their contract every five years. Applebee's is every six years. So it's pretty standard, so you'll see that process start all over again on the Applebee's side. So it's sort of a continuous -- we've gotten this down to a pretty good system that you'll see a fifth to a sixth of the system every year at both brands. I think the last couple of announcements we've made on remodels, the reason it's been lesser than that is because the franchisees have been so interested in the remodel, they're willing to do it ahead of their requirement. But pretty standard.

Okay. And then the IHOP franchise revenues were higher than we were projecting for the quarter and we knew about the extra operating week for the quarter. But was the last week stronger than typical or were there any other changes like the royalty rate or anything on the IHOP side that may have benefited the revenue?

No. I think investors sometimes forget that it's not just royalty we take in on the IHOP side. There are several revenue streams, both the rental income stream, the equipment stream, dry mix. There are several multiple scenarios. So when sales go up, it has sort of a --

There's a collateral impact.

Yes, a collateral impact, if you will.

On the rent.

On the rent especially and the dry mix. Anything that relates to sales has an impact.

Did the rent -- was there a change in the rent rate? Because you guys have been collecting rent, percentage rates, for a while for IHOP franchisees. Was there any change in that in the fourth--

When sales go up, you have a large majority or a lot of the franchisees on percentage rent, so when sales go up, it impacts rent.

So there's sales contingent leases, Chris.

Okay. And then how much visibility do you guys have on net receivables or the net receipts from notes and equipment contract receivables? It seems to be a pretty volatile line. Is there -- the guidance that you gave for this year, $9 million, is pretty good visibility on that?

We had sort of an unusual level of prepayments in 2015. I think in other years, it sort of holds together--

I was just going to say we're--

So our outlook is a little bit harder to anticipate because this event, it's sort of circumstantial. But if we look into 2016, we're not anticipating anything unusual.

Our next question comes from Alton Stump from Longbow Research. Please go ahead.

It's actually Brittany on for Alton this morning. How's it going? I wanted to ask about your pricing strategy at Applebee's, given the comp slowdown. I just wanted to see how much, if any, pricing you could take in 2016.

Just as a refresher, you know that we don't dictate price. It's illegal in the domestic U.S.. So franchisees can price however they want. We can give them a guideline. We can tell them when a product costs too much or doesn't cost enough. We give broad guidelines. But pricing is a very individual, very specific item and the franchisees often take it down all the way to the store level or the market or the trade area. So, what we have suggested to franchisees is -- and always do -- to be sensitive to pricing and they have been at both brands. IHOP has two menus this year. IHOP has two menus this year. Applebee's has three menus this year. So when you reprint the menu, it gives franchisees an opportunity to rethink their pricing strategy. But I find both brands and both sets of franchisees very thoughtful about the art and the science of pricing. And what we have seen is people being very thoughtful about increases or strategic about them, but nothing dramatic or large. It's not like a 5%, 6% price increase. To be honest with you, we don't tell this very often, but the large majority of that is because we have this purchasing co-op that I think we've said in the first five years take over $250 million in the middle of the P&L for our franchisees. So we use that co-op to our advantage. And when you are as big as we're, they don't feel the need to take massive amounts of pricing, because they're giving the value back to the consumer. And frankly, that's because the co-op does such a great job. So, I don't think we're seeing anything on the horizon that would indicate there's aggressive pricing nor is there a need to take it. Especially in this environment, I think consumers want as much price value as possible.

Okay. And then have you guys seen anything material in the competitive environment with bar and grill category in 4Q or maybe even to date in 1Q?

No. In fact, I would tell you, in general, when bar and grill goes on television, when you have a regional -- we just don't see any impact. In other words, it's not like somebody goes on the air and oh my God we see a 2% decline. It just doesn't work that way. We're just so large and I think really when you think about it, where you're really looking to see the change in independent because the category is made up so much of independents.

Our next question comes from Steve Anderson from Maxim Group. Please go ahead.

I wanted to have a follow-up question with regards to the competitive landscape. It's probably a two-part question. First, in the bar and grill segment, are you seeing any defection into the burger QSR category with regard to their increased competition and the price point discounting? And if you are seeing, on the IHOP side of your company, if you are seeing anything with McDonald's offering all-day breakfast and if that's hitting your traffic to you in midday.

I would tell you, on the IHOP side, there's no question that McDonald's is affecting I think everybody in the breakfast space because they are spending so much money on breakfast and so we're being very thoughtful about that. I think, in the bar and grill category, not seeing anything meaningful. I think our real opportunity at both brands is to think about how we can win in our own -- when you think about the future, how do we win in a different way? So if our to-go business or our car side to-go business is more effective and efficient, we know we get a higher check average when we do that. There's real opportunity [Technical Difficulty]. When you think about our products and their ability not only to travel but our ability to give great service, consumers love that in a timely way. So it's really our ability to win looking at the business slightly differently, like you get a home-cooked from-scratch meal and don't have to stay in a line at a drive-through or through a queue. So I think there's a real focus for us this year, how do we win with our competitive advantages. And that's really what we're focused on.

We do have a big competitive advantage in all-day breakfast -- 56 years at IHOP.

I will now turn the call back over to Miss Julia Stewart, Chairman and Chief Executive Officer, for closing comments.

Thank you very much. Thanks again for joining us. We're scheduled to report results for the first quarter on May 5, so we look forward to talking to you all then. If you have questions in the interim, please feel free to call Ken or Tom or myself. The best, bye-bye.